- A popular election manifesto: Given the far-reaching impact on Malaysian consumers, a reduction in car prices has become a popular manifesto of political parties. And while there are many methods to do so, a “shortcut” to achieving this would be to abolish excise duties (duty rates of 75%-105%), which account for up to 40% of a typical non-national assemblers’ cost. Excise duties are charged on imported contents of a vehicle.

- The immediate impact, well discussed: Should the policy materialised, a gradual implementation over 5-7 years is likely, as a huge change overnight will cause a massive shock to the eco-system, i.e. (1) Financiers hit by write-downs given a decline in collateral values; (2) Secondary market values plummet overnight, existing stock held at dealers’ yards will be sold at huge losses – there are 10mil passenger cars registered in the country that will be constantly traded in the secondary market; (3) Replacement car buyers will see trade-in values drop by a similar quantum as the prices of new cars, meaning little change in their ability to purchase a car given the same additional capital outlay required.

- Structural impact on industry? Beyond the immediate term impact (which has been well discussed by analysts), the longer term impact on the sector concerns us. The absence of excise duties means diminishing case for foreign manufacturers to set up local production or source parts from local vendors. As an example, the Philippines has the lowest vehicle taxes in ASEAN (Excise duty from as low as 2%; Import duty: 0%-30%). Their open trade regime has made importing CBUs more affordable than assembling CKDs in local assembly plants – resulting in sales of CBUs growing from 5% in 2000, to 51% in 2009 and hitting c.60% in 2011 (source: Frost & Sullivan). Should the abolition of excise duties materialised, we would not rule out a shift in foreign investment into competing neighbouring countries that still charge excise duties on imported contents (Malaysia will be the first and only ASEAN-5 country without vehicle excise duty should this policy be implemented). The much larger growth potential in competing ASEAN countries further underpins a potential shift in foreign investment preference.

- Impact on monetary outflow? Should the same situation as the Philippines arises (where CBU forms the bulk of sales), the amount of monetary outflow would be huge (we estimate 70%-80% of the amount we spend on CBUs would flow out of the country as it is a mere trading business with 0% local content as opposed to a typical non-national CKD which entails 40%-60% local content). More importantly, passenger cars account for the second largest spending by Malaysian consumers after properties.

- While the 1st point has been much discussed, the 2rd and 3rd points in this report are structural factors that are huge causes of concern and require detailed clarifications, particularly measures to plug potential foreign investment and monetary outflow arising from such a move. To be fair, the local component industry has also taken time to generate sufficient price competitiveness and scale to compete with foreign part makers – which has been a key drag in sector development. This is perhaps a sub-sector which should be overhauled/consolidated to achieve the political aspirations to provide cheaper cars.

- Who would be impacted? The auto part sector is a key loser in the case of a complete abolition of excise duties. Local assemblers, e.g. UMW Toyota, TCM, DRB-Hicom, also stand to lose manufacturing revenue should foreign OEMs move future manufacturing into competing ASEAN countries. MBM will also lose its appeal (in particular its comprehensive car manufacturing

licence) as a potential assembler and an auto part producer. We maintain our OVERWEIGHT on the sector for the time being with our top picks being TCM (BUY, FV: RM6.40/share) and MBM (BUY, FV: RM5.40/share). A drastic change in the sector policy may entice us to review our picks.

Source: AmeSecurities